Income Volatility and Risk Aversion

Prinicipal Investigator:

Shane Tyler Jensen

Prinicipal Investigator:

Stephen H. Shore

Abstract:

Income risk is arguably the largest source of risk people face and may carry substantial welfare costs. Income volatility, defined as the variance of squared income changes, can be used to measure income risk. There has been a great deal of recent interest in the evolution of income volatility (Dahl, DeLeire, and Schwabish, 2007; Dynan, Elmendorf, and Sichel, 2007; Gottschalk and Moffitt, 1994, 2002; Hacker, 2006). A popular conclusion of this research is that income changes have gotten larger over time. The increase in average income volatility suggests there is more uncertainty about lifetime income and therefore retirement wealth, which increases the importance of social insurance programs such as Social Security that protect against the risk of retiring with insufficient wealth or outliving ones assets.

The primary goal of our project is to model the relationship between income volatility and selfreported risk aversion. A secondary goal of our project is to improve and validate our methodology for the estimation of income volatility and its evolution over time.